If you plan on giving cash or financial assets to your family, you'll want to make sure you avoid a side effect of your generosity — gift taxes.

Gift tax laws are designed to discourage people from giving away all their assets to reduce the estate tax burden on their heirs. And yet, by being creative, you can still make sizable presents to your loved ones, without being hit by heavy gift taxes.

Before making any gifts, though, you'll want to familiarize yourself with gift tax regulations. To begin with, you can give away $11,000 to any one person in any one year. Gifts above that amount may be subject to the gift tax, which, in 2002, can be as high as 50 percent, depending on the size of your taxable estate. The top gift tax rate is scheduled to gradually decline, until it reaches 35 percent in 2010.

Of course, $11,000 is not an insignificant sum. But if you want to give your child or grandchild even more, your spouse can also contribute $11,000, thereby doubling your gift. And the two of you can keep making the cumulative $22,000 gift year after year.

Furthermore, there's no limit on the number of people to whom you can give the $11,000 annual gifts. You can make gifts to your children, your children's spouses, your grandchildren, your nephews and nieces, your friends — anyone you choose.

In fact, by making multiple, repetitive gifts, you can greatly reduce the size of your taxable estate. Under current law, you can give away up to $1 million in your lifetime, in addition to the $11,000 annual gifts, without being required to pay gift taxes. Consequently, gifting can be an important estate-planning tool. (Right now, estate taxes are slated for elimination in 2010, but there's no guarantee they won't be reinstated by a future Congress and administration.)

Gifts Of Financial Assets

Thus far, we've only talked about cash gifts. But you may well decide to give your children or other family members gifts of other financial assets, such as stocks. If you do, you'll still face the same $11,000 limit, but you'll also have some other issues to consider.

Suppose, for example, that, many years ago, you bought some stock worth $7,000. Today, your shares are worth $11,000. If you were to sell your shares, you'd have to pay capital gains taxes on your $4,000 profit. If you decided to give these shares to your grandson, you could escape the capital gains tax — but your grandson couldn't. Even though he only acquired the stock when it was at the $11,000 level, he will have to pay capital gains on the $4,000 appreciation — plus any other price increase — when he sells the stock.

Does this mean you should never make a gift of appreciated stock? Not necessarily. But if you do, make sure you communicate all the tax ramifications to your intended recipient — before you make the gift.

In fact, it's a good idea to talk beforehand to everyone to whom you plan to give a gift. By providing them with some advance notice, you'll give them a chance to plan ahead — and to get the most out of your philanthropy.